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The 4 types of annuities: Which is right for you?

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The option with lifetime guaranteed income
The option with tax-deferral
The option with lower risk
The option that may have the most benefits

The future looks bright for the next generation of retirees – we're living longer, with the number of U.S. centenarians increasing from 82,000 in 2016 to over 92,000 in 2020. And by 2030, we'll likely see 134,000 Americans celebrate their 100th birthday, according to the U.S. Census Bureau. We're also approaching retirement with a renewed sense of purpose.

So, what does that mean about the way we fund retirement? With more life to look forward to and more passions to pursue, it's essential that we try to build a nest egg that lasts a lifetime. Annuities offers features than can help you protect what matters to you as you work toward living a long and fulfilling life in retirement.

What are annuities?

An annuity is a contract between you and an insurer that guarantees lifetime income in retirement. You can pay a lump sum or a series of premium payments to the insurer, and in turn they provide income payments to you in retirement. You can begin to receive those payments depending on when you plan to retire and the type of annuity you purchase.

Annuities can be a great addition to your retirement income plan, as they are one of the few investment solutions that can ensure you won't outlive your money. You may also enjoy the simplicity of regular payments. When selecting the type of annuity that's right for you, and based upon the terms of your contract, you can receive your payments without any additional effort.

There are two stages to any annuity contract.

  • The first stage is the accumulation stage, or the period where you save and potentially grow your retirement funds while building the cash value of your annuity.

  • The accumulation phase ends at the onset of the distribution stage. This is when you're ready to begin withdrawing funds to create an income in retirement. With annuities, this is called annuitization – or the process of converting your annuity into regular payments for retirement.
2 annuity stages - accumulation and distribution

How you build your retirement funds and cash value (accumulation) and then convert those funds into guaranteed income (distributions) will depend on the type of annuity you purchase.

The 4 types of annuities

There are four basic types of annuities to meet your needs: immediate fixed, immediate variable, deferred fixed, and deferred variable annuities. These four types are based on two primary factors: when you want to start receiving payments and how you would like your annuity to be invested.

  • When you are planning to begin receiving payments – You can either receive your annuity payments immediately after paying the insurer a lump sum (immediate payments) or you can receive monthly payments in the future (deferred payments).
  • How your annuity investment may potentially grow – Contributions to an annuity can grow in a couple of different ways – through interest rates (fixed return) and by investing your contributions in the market (variable return).

1. Immediate annuities: The lifetime guaranteed option

One of the trickier elements in retirement income planning is figuring out how long you're going to live. Immediate annuities are specifically designed to provide an immediate guaranteed lifetime payout.

The drawback is that you're trading liquidity for guaranteed income. You generally won't have access to that full lump sum if you need it for emergencies. However, if securing lifetime income is a major concern, then a lifetime immediate annuity could be the right option for you.

A feature that can make immediate annuities so appealing is that the fees are woven into the payout. This allows you to know exactly how much money you'll receiving in the future, for the rest of your life and your spouse's life based on the amount you originally contributed.

Financial organizations like Thrivent that offer immediate annuities frequently offer additional income payout options, like recurring payments over a fixed term, or until you die. You may also have an optional death benefit which allows you to have payments sent to people and/or causes of your choosing.

2. Deferred annuities: The tax-deferred option

Deferred annuities provide guaranteed income in the form of a lump sum or monthly income payments on a date in the future. You pay either a lump sum or monthly premiums to the insurer, who will then invest these funds in a manner consistent with your contractual agreement. Depending on the investment type you choose, deferred annuities offer potential for the principal to grow before receiving payments.

Deferred annuities are a great option if you want to contribute your retirement income on a tax-deferred basis – meaning you are not taxed on the retirement income until you take money out. Unlike IRAs and 401(k)s, there are no contribution limits for deferred annuities.

3. Fixed annuities: The lower-risk option

Fixed annuities are probably the simplest type of annuity to understand. The insurance company pays a guaranteed fixed interest rate on your investment for an agreed upon period of time (the guarantee period). That guaranteed interest rate on your investment could apply to anywhere between a year and the full-length of your guarantee period.

When your contract is over, or at the end of the guarantee period, you may choose to either annuitize your contract, renew your contract, or transfer your invested dollars into another annuity contract or retirement account.

Because fixed annuities offer a guaranteed interest rate, your income is typically not impacted by market volatility so you can anticipate the amount of your monthly payments. Of course, a downside of remaining in a fixed annuity with a guaranteed interest rate would be the inability to benefit from potential upswings in the market. In addition, the guaranteed interest rate may not keep pace with inflation. All in all, a fixed annuity may offer the most benefits during an annuity’s accumulation phase and be less effective during the annuitization phase for generating retirement income.

4. Variable annuities: The potentially highest upside option

A variable annuity is a type of tax-deferred annuity contract that allows you to invest your money into sub-accounts, similar to those in a 401(k). Sub-accounts can help an annuity’s growth keep up with, and sometimes outpace inflation. Annuity contracts with specific riders can offer guaranteed lifetime income.

Like mutual funds, sub-accounts are dependent upon market risk and performance. Variable annuities also offer a death benefit rider or an income rider that provides your beneficiaries a guaranteed income. A guaranteed lifetime withdrawal benefit, or GLWB, is a rider which helps protects against both longevity risk and market risk. This dual protection may be beneficial if you are 15 years or less from retirement.

A variable annuity can be a great addition to your retirement income plan if you've already maxed out your Roth IRA or 401(k) contributions for the year. You may also wish to consider adding guaranteed income riders to your variable annuity. Guaranteed income features may allow you to feel more confident about the future so you can focus on your goals in the present knowing you won't outlive your money.

The pros & cons of the types of annuities

Fixed Annuities

Provide a fixed interest rate on your investment for a set period

Variable Annuities

Provide growth potential of the market through sub-accounts

Immediate Annuities

Pay a lump sum and receive guaranteed income right away

Type 1: Immediate Fixed

Pros: Receive income right away, simplicity of not needing to monitor investment, know exactly how much money you'll receive in payout

Cons: Payments can end upon the death of the annuitant; may not keep pace with inflation; trading liquidity for guaranteed income

Type 2: Immediate Variable

Pros: Guaranteed lifetime income right away, opportunity to benefit from the market, death benefit for beneficiaries

Cons: Less common and can be more expensive than other retirement options; monthly payments may fluctuate based on the market

Deferred Annuities

Pay a lump sum or income premiums to receive guaranteed income at a set future date

Type 3: Deferred Fixed

Pros: Easier to understand; principal protection; payment timing flexibility; tax-deferred growth during accumulation phase; No annual contribution limits; Not impacted by market volatility

Cons: Subject to early-withdrawal penalties; may not keep pace with inflation

Type 4: Deferred Variable

Pros: Tax-deferred growth during accumulation phase; potential to benefit from the upside of the market

Cons: Subject to early-withdrawal penalties; assets subject to market fluctuation

Are annuities right for you?

Annuities can offer a sense of confidence when it comes to income in retirement. That being said, the purchase of an annuity should be carefully discussed with a financial advisor. They will consider your goals, values and financial situation prior to making a recommendation about an annuity or other investment product.

Curious about your income needs in retirement? Take the Income Match Assessment to learn more.

Learn more about how annuities can help you reach your retirement goals, connect with a financial advisor near you.

Annuities are intended to be long term, particularly for retirement. Guarantees are based on the financial strength and claims-paying ability of the insurance company/insurer.

Holding an annuity inside a tax-qualified plan does not provide any additional tax benefits. Withdrawals and surrenders will decrease the value of an annuity and subsequently the income received. Any withdrawals in excess of 10% may be subject to a surrender charge. The taxable portion of each annuity distribution is subject to income taxation. If a taxpayer is younger than 59½ at the time of distribution, a 10% federal tax penalty will apply to the taxable portion of the distribution unless a penalty-tax exception applies. Thrivent and its financial professionals do not provide legal, accounting or tax advice. Consult your attorney or tax professional.

Investing involves risk, including the possible loss of principal. The prospectus and summary prospectuses of the variable annuity contract and underlying investment options contain information on investment objectives, risks, charges and expenses, which investors should read carefully and consider before investing.

Riders are optional and available for an additional cost.